Working Paper

Bank Pay Caps, Bank Risk, and Macroprudential Regulation

This paper studies the consequences of a regulatory pay cap in proportion to assets on
bank risk, bank value, and bank asset allocations. The cap is shown to lower banks' risk
and raise banks' values by acting against a competitive externality in the labour market.
The risk reduction is achieved without the possibility of reduced lending from a Tier 1
increase. The cap encourages diversi cation and reduces the need a bank has to focus on
a limited number of asset classes. The cap can be used for Macroprudential Regulation
to encourage banks to move resources away from wholesale banking to the retail banking
sector. Such an intervention would be targeted: in 2009 a 20% reduction in remuneration
would have been equivalent to more than 150 basis points of extra tier 1 for UBS, for
example.

Part of the series

• Department of Economics Discussion Paper Series (Ref: 636 )

Keywords: Remuneration, compensation, bonuses, capital conservation, systemic bank risk